Answer to Question #152194 in Finance for abhay yadav

Question #152194
Suppose that the rate of return on the market portfolio is 13% and the risk-free rate is 3%. Consider a
stock with = 1.2. The firm is expected to have no earnings for three years (E1 = E2 = E3 = 0), and
then 20 earnings-per-share for two years (E4 = E5 = 20). After that, earnings are expected to grow at a
constant annual rate of 8%. If the retention ratio (i.e. the fraction of earnings which is retained and not
paid out as dividends) is 75% in all periods, find the fundamental value of the stock. Determine what
would happen to the fundamental value in each of the following cases: (i) the asset falls to 1, (ii) the
earnings growth rate rises to 10%. Treat each case separately, and briefly discuss your findings.
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